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Claiming The Conch


Last Friday, I wrote a note on US Employment that stirred the pots of the Depressionistas - it was titled "This Is BIG: US Employment Is Turning"...


Understanding that the peak of unemployment growth is measurable is what it is. Some people buy into this investment process, some people don't. For me, what happens on the margin is what matters to my macro model the most.


While monthly unemployment reports are more lagging economic indicators than anything else, the weekly jobless claims numbers are a much more concurrent indicator of quantifiable deltas.


One week certainly does not a TREND make, but this week's jobless report wasn't worse than last week's, and that is a point in and of itself. Initial jobless claims this morning fell from 674,000 last week to 654,000 this week. Most importantly, the weekly reading (which is subject to revisions) cracked the powerful upward momentum in the 4 week moving average (see chart below).


This morning I labeled the short squeeze in US Consumer Discretionary the Pain Trade. Today's early morning squeeze in the XLY (Discretionary ETF) isn't a marked-to-model price - its real - and the XLY is up another +4% today as a result. From mortgage rates, to y/y gas prices, to asset reflation, everything that matters to the American consumer has improved, on the margin.


For those who call measuring deltas silly, I hope you can remain in these short positions longer than those on the bid can remain solvent. This Pain Trade's fundamental underpinning continue to improve. Alas, hope, is not an investment process.


Keith R. McCullough
Chief Executive Officer

Claiming The Conch - employo



The lingering impact of the smoking ban, the economy, and 1 less weekend day drove revenues down 13% year-over-year in March.  However, same store revenue declined only 9%.  The same store calculation excludes PENN's Joliet Empress which lost a ½ month's of revenue due to fire, and the new Jumer's permanent facility.


Illinois is likely to chug along at the down mid single digit pace, making it one of the worst performing regional markets.  The good news is that revenue declines are "less bad", that is, the delta is positive.  Moreover, the 6 month moving average is moving in the right direction, sloping upward since December 2008. 


Boyd Gaming's (BYD) casino in East Peoria was the standout with a revenue decline of only 4%.  For the quarter, Par-A-Dice is down 4%, in-line with our projection.



The Pain Trade

"Everyone is a prisoner of his own experiences. No one can eliminate prejudices - just recognize them."
-Edward Roscoe Murrow
I have that quote taped into the insert of one of my research notebooks. I make myself read it whenever I feel myself fighting The Pain Trade.
What's The Pain Trade? Some risk managers who short securities in this business might call it something else, but they all know how it feels. It's that perpetual pressure that mounts on the short side of your portfolio. It's like holding a beach ball under water for an extended period of time - eventually your arms give way to exhaustion, and the natural forces of gravity take over - that ball is going nowhere but straight up.
If you want a real-time picture of what this looks like, pull up the charts of Bed Bath & Beyond (BBBY) or Ruby Tuesday (RT) - the pain trade was front-center on the consensus short selling community's screens yesterday. My congratulations to our clients who profited from great research calls from my Partners, Brian McGough and Howard Penney, on these two names. Gentleman, you made the calls that very few in this business were allowed to make.
Howard has been around this game long enough to realize how to hunt bear, and make kills. He has been working with me on US Strategy this year, and doing a world class job. From his early cycle bullish call on the US Casual Dining stocks in December to his "Housing will bottom in Q2" call that is really starting to manifest (now that it is Q2!), I'm not sure that I know an analyst in this business who has a hotter hand using the pain trade to his/her advantage.
Knowing Howard, he is going to cringe as he reads through these keys strokes of my pumping his tires - and so will the people who are short his best long ideas - he's been around the block long enough to know that all good things associated with the hot hand come to an abrupt end! So, I did him a favor and sold out of our long positions in both Chili's (EAT) and Starbucks (SBUX) yesterday. But did I do The Man a favor?
You see, The Pain Trade is a powerful reminder, to me at least, that I have a tremendously hard time staying with winning stocks on the long side for as long as I should. My #1, #2, and #3 weakness as a risk manager is that I move too early. Over the years I have recognized my prejudice, and implemented quantifiable controls to govern my emotions - but I have a lot of work that needs to be done on this side of my game.
Howard's daily US Sector Strategy report has turned into a must read for a lot of portfolio managers in this business. Not only did it signal when Tom Tobin and I needed to get out of Healthcare (XLV) this year, but it has reminded us that US Consumer Discretionary (XLY) was THE Pain Trade to watch. Howard constantly reminds me of where the bodies lie in the math. The math doesn't lie; people do. Consumer Discretionary has the highest short interest (higher than US Financials) in the entire US stock market.
So what have I done with that? For one, I haven't been short US Consumer Discretionary stocks. Thank God, and Thank You Mr. Penney for that! And if some of the smartest "hedgies" on the planet only think that we are blind New Haven squirrels who have found acorns, let me take this as an opportunity to thank them too.
The XLY (S&P US Consumer Discretionary Sector ETF) was the best performing sector in the market yesterday. It closed up +2.8% on the day, signaling a positive divergence (which means outperforming the SP500, which was +1.2% on the day). Alongside Technology (XLK), which we have a 6% position in our Asset Allocation Model, and Basic Materials (XLB), XLY is one of your Three Horsemen of The Pain Trade. All 3 of these Horsemen are breaking out from an intermediate TREND perspective. All 3 acted great yesterday. And, with it being Daryl Jones' Yale Hockey jersey number, who doesn't love the number 3?
Short sellers of The Pain Trade beware - you can kick, yell, and scream for Roubini to bail you out of these short positions, it isn't going to do anything but make me smile this weekend as I gnaw on my Easter Bunny treats. It takes a bear to know one. The last 18 months of my showing the entire Street every virtual trade that I have put on should at least qualify me as being someone who knows what it is that short sellers think they do.
What is it that the short sellers of this game do? Who is actually qualified to be running +10% net long right here and now? Who are the stock market operators of 2009 that can show you how they performed in the down markets of 2000 through 2002? I have no idea. All I know is that I can show you what it is that I do.
Will I be wrong? I hope not - hope is not an investment process; neither is short selling a consensus call right here that the Great Consumer Depression cometh - or at least it wasn't yesterday, and the day before that... oh, and the 3 weeks before that...
And while we all know that some investors are in this for the "long run", let me remind my fellow short sellers of the deep of this: beware of that beach ball as you're friends in "hedgie" land try to hold it under water. "No one can eliminate their prejudices" - so be sure to recognize them...
Happy Easter hunting to the bears and the bulls alike. It looks like it's going to be a beautiful weekend here in the Northeast. I can't wait to go through some more of these high short interest charts!


EWA - iShares Australia-EWA has a nice dividend yield of 7.54% on the trailing 12-months.  With interest rates at 3.00% (further room to stimulate) and a $26.5BN stimulus package in place, plus a commodity based economy with proximity to China's H1 reacceleration, there are a lot of ways to win being long Australia.

XLK - SPDR Technology - Technology looks positive on a TRADE and TREND basis. Fundamentally, the sector has shown signs of stabilization over the last six+ weeks.   As the world demand environment becomes more predictable, M&A should pick up given cash rich balance sheets in this sector (despite recent doubts about an IBM/JAVA deal being done).  The other big near-term factors to watch will be 1Q09 earnings - which is typically the toughest for tech, along with 2Q09 guide.  There are also preliminary signs that technology spending could be an early beneficiary of the stimulus plan.

TIP - iShares TIPS- The iShares etf, TIP, which is 90% invested in the inflation protected sector of the US Treasury Market currently offers a compelling yield on TTM basis of 5.89%.  We believe that future inflation expectations are currently mispriced and that TIPS are a compelling way to own yield on an inflation protected basis, especially in the context of our re-flation thesis.

XLB - SPDR Materials -The USD stopped going up yesterday and Materials rallied. It's a bull on both a TREND and TRADE duration. The Materials sector is, obviously, a key beneficiary of our re-flation thesis.  Domestically, materials equities should also benefit as the stimulus plan begins to move into action.

RSX - Market Vectors Russia-The Russian macro fundamentals line up with our quantitative view on a TREND duration. Oil has benefited from the breakdown of the USD, which has buoyed the commodity levered economy. We're seeing the Ruble stabilize and are bullish Russia's decision to mark prices to market, which has allowed it to purge its ills earlier in the financial crisis cycle via a quicker decline in asset prices. Russia recognizes the important of THE client, China, and its oil agreement in February with China in return for a loan of $25 Billion will help recapitalize two of the country's important energy producers and suppliers.  

USO - Oil Fund-We bought oil on Wednesday (3/25) for a TRADE and are positive on the commodity from a TREND perspective. With the uptick of volatility in the contango, we're buying the curve with USO rather than the front month contract.  

EWC - iShares Canada-We bought Canada on Friday (3/20) into the selloff. We want to own what THE client (China) needs, namely commodities, as China builds out its infrastructure. Canada will benefit from commodity reflation, especially as the USD breaks down. We're net positive Harper's leadership, which diverges from Canada's large government recent history, and believe next year's Olympics in resource rich Vancouver should provide a positive catalyst for investors to get long the country.   

DJP - iPath Dow Jones-AIG Commodity -With the USD breaking down we want to be long commodity re-flation. DJP broadens our asset class allocation beyond oil and gold. 

GLD - SPDR Gold-We bought more gold on 4/02. We believe gold will re-assert its bullish TREND as the yellow metal continues to be a hedge against future inflation expectations.

DVY - Dow Jones Select Dividend -We like DVY's high dividend yield of 5.85%.

EWU - iShares UK - We shorted the UK yesterday (4/08). We're bearish on the country because of a number of macro factors. From a monetary standpoint we believe the Central Bank has done "too little too late" to manage the interest rate and now it is running out of room to cut. The benchmark currently stands at 0.50% after a 50bps reduction on 3/5. While the Central Bank is printing money and buying government Treasuries to help capitalize its increasingly nationalized banks, the country has a considerable ways to go to attain its 2% inflation target as inflation has slowed considerably. GDP declined 1.5% in Q1, unemployment  is on the rise, housing prices continue to fall, and the trade deficit continues to steepen month-over-month.

EWL - iShares Switzerland - We shorted Switzerland on 4/07 and believe the country offers a good opportunity to get in on the short side of Western Europe, and in particular European financials.  Switzerland has nearly run out of room to cut its interest rate and due to the country's reliance on the financial sector is in a favorable trading range. Increasingly Swiss banks are being forced by governments to reveal their customers, thereby reducing the incentive of Switzerland as a tax-free haven.

UUP - U.S. Dollar Index -We believe that the US Dollar is the leading indicator for the US stock market. In the immediate term, what is bad for the US Dollar should be good for the stock market. The Euro is down versus the USD at $1.3273. The USD is up versus the Yen at 100.0670 and up versus the Pound at $1.4636 as of 6am today.

EWJ - iShares Japan -We re-shorted the Japanese equity market rally via EWJ. This is a tactical short; we expect the market there to pull back when reality sinks in over the coming weeks. Japan has experienced major GDP contraction-it dropped 3.2% in Q4 '08 on a quarterly basis, and we see no catalyst for growth to return this year. We believe the BOJ's recent program to provide $10 Billion in loans to repair banks' capital ratios and a plan to combat rising yields by buying treasuries are at best a "band aid".

DIA -Diamonds Trust-We used our third bullet to re-short the DJIA on 4/07.  We believe this "blue chip" industrial based group of companies will underperform in a market decline.

XLP - SPDR Consumer Staples- Consumer Staples looks negative as a TREND and positive as a TRADE. This group is low beta and won't perform like Tech and Basic Materials do on market up days. There is a lot of currency and demand risk embedded in the P&L's of some of the large consumer staple multi-nationals; particularly in Latin America, Europe, and Japan.

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CPKI - I See a Pattern Here!

CPKI had guided to Q1 same-store sales declines of -5.5% to -6.5% and EPS of $0.03-$0.05 (street at $0.05).  Preliminary same-store sales came in within that range -5.9%, but now the company raised EPS guidance to $0.09-$0.10.


Q1 same-store sales improved sequentially from Q4 when comparable sales declined 7.2% but were relatively flat on a 2-year basis.


CPKI - I See a Pattern Here! - CPKI 1Q09 Same store sales


Rick Rosenfield and Larry Flax, co-CEOs of California Pizza Kitchen, Inc., stated, "The enduring strength of our culture, menu innovation and outstanding customer service are more important than ever during these difficult times. These core drivers, combined with our rapid implementation of cost saving initiatives, bolstered our first quarter results which exceeded expectations."

MCD and HPQ act horribly in this rally



A good friend of Research Edge is currently enrolled at Yale Law School.  This future Supreme Court clerk was kind enough to give us the heads up that former Treasury Secretary, Robert Rubin, was speaking at the Yale Law School yesterday.  While Keith briefly touched on Rubin's hour long lecture plus Q&A in the Early Look, we wanted to more broadly highlight some of his comments.


Rubin is clearly relevant in current investment discussion given his role in both working with and mentoring Treasury Secretary Timothy Geithner and National Economic Council Chairman Larry Summers.  Given the background that both of these men worked for Rubin for extended periods, there can be no doubt that Rubin has some influence, if not a great deal, over current events.  As a result, it is worth understanding just how the economic godfather, Robert Rubin, thinks.


Keith and I attended the presentation with two current students of Yale Law School.  No doubt I was the least intelligent (except for maybe Keith) of our group, with very likely the most partisan Republican views.   Interestingly, despite widely varying political beliefs among our four person Rubin lecture watching cohort, we all come to the same conclusion:  Rubin was radically underwhelming. Moreover, it was scary to think that he was at one point one of the most important economic policy makers in the world, who still has incredible influence today.


In lieu of actually transcribing his comments, I'm just going to "You Tube" various quotes from the lecture.  While this may read as a bit laughable, just remember this man has real influence.


Rubin: "No one saw the extreme confluences of events that led to this recession."


Research Edge: We went to 96% cash in September 2008 and we were hardly alone in this call.


Rubin: "Everyone missed it."


Research Edge: Everyone who owned Citigroup stock or was on their Board, definitely missed it.


Rubin: "The most important academic experience for my career in finance was my first year class at Harvard in Greek Philosophy."


Research Edge: Not a lot of quantitative analysis was taught in Greek Philosophy as I recall from my first year Greek philosophy class.


Rubin:  "I do not believe there are bad assets."


Research Edge: So there are only good assets? What about highly levered banks that ostensibly have no equity value . . . bad assets?


Rubin:  "I called for more regulation on derivatives in my 2003 book." (said this about 4x)


Research Edge: What did you DO when you were in those board meetings at Citi?


Rubin: "There is no risk of any defaults on sovereign debt globally."


Research Edge: History tells us that sovereign defaults will likely increase dramatically in the coming months.


Rubin:  "A key problem in our Democracy is that our electorate is not informed."


Research Edge: My mom didn't go to Harvard, Yale Law School, or work at Goldman Sachs, but I'd consider her very informed.  She also does math.


Rubin:  "I ran the whole bloody thing (sales and trading) at Goldman Sachs, so I think I understand a thing or two about markets."


Research Edge: I guess experience at Goldman makes any opinion valid.


Rubin:  "Psychology changes (and thus markets) move for no reason."


Research Edge:  This is an interesting comment for a guy that ran sales and trading at Goldman for so long.


Rubin:  "I think there is something in human nature that causes euphoria in markets."


Research Edge: Gee, thanks Ruby.


Rubin:  "The criticisms of the Clinton years' major economic policies, repealing of Glass-Steagall, lack of regulation of derivatives, and the creation of the CRA, as contributing factors to this crisis are unwarranted."


Research Edge: We don't necessarily blame Rubin or Clinton, but certainly they are far from blameless. A little accountability could be a start.


Rubin:  "That little group (referring to President Obama's Economic Recovery Advisory Board) is having good meetings."


Research Edge: This "little group" includes Paul Volcker, David Swenson, Bill Donaldson, and John Doer, to name a few.

Arrogance is scary in its own right, but can be outright dangerous when it is the key characteristic of a person of real influence.   Perhaps Mark Twain summed it up best when he said: "The offspring of riches: pride, vanity, ostentation, arrogance, tyranny." The minute any of us believe that our resume or wealth makes us impervious to criticism is a dangerous time indeed.


Daryl G. Jones
Managing Director